Menu
Finance and Business
Browser Extensions That Save You Money
Playoff Perks For Pro Athletes
6 Financial Benefits Of Spring Cleaning
How The 2014 Obama Budget Could Affect Your Finances
How To Profit From Risk
What Buffett Would Say To The 50K’ers
How Spring Cleaning Can Make You Money
The Most Expensive Sports Trophies
How To Buy Annuities (And When Not To)
The Economics Of Stay-At-Home Moms
6 Tips For Selling Your Home Fast
6 Things You Think Add Value To Your Home - But Really Don't
Making It Big On Wall Street
Predict Inflation With The Producer Price Index
10 Great Summer Jobs For Teens
The Cold, Hard Facts Behind Funding Your Retirement
The Role Of Parents In Financial Education
Broker Commissions Are Here To Stay
Money Tips To Stretch Your Retirement Nest Egg
4 Traits Banks Look For In New Staff
Earnings Guidance: Can It Accurately Predict The Future?
Is Real Estate Ever A Wise Investment For Retirees?
Get A Bank Job In 50 Days
The Diner's Guide To Tipping
Earnings Guidance: Can It Accurately Predict The Future?
It has become regular practice for companies to provide "guidance" along with the company’s earnings. Guidance is a relatively new term that describes an old practice of predicting business expectations. Here we'll take a look at this age-old tradition, discuss the good and bad points and examine why some companies are saying "no more" to earnings guidance.

Earnings Guidance Defined
Earnings guidance is defined as the comments management gives about what it expects its company will do in the future. These comments are also known as "forward-looking statements" because they focus on sales or earnings expectations in light of industry and macroeconomic trends. These comments are given so that investors can use them to evaluate the company's earnings potential.

An Age-Old Tradition
Providing forecasts is one of the oldest professions. In previous incarnations, earnings guidance was called the "whisper number." The only difference is that whisper numbers were given to selected analysts so that they could warn their big clients. Fair disclosure laws (known as Regulation Fair Disclosure or Reg FD) made this illegal and companies now have to broadcast their expectations to the world, giving all investors access to this information at the same time. This has been a good development.

The Good: More Information Is Always Better
Earnings guidance serves an important role in the investment decision-making process. Under current regulations, it is the only legal way a company can communicate its expectations to the market. This perspective is important because management knows its business better than anyone else and has more information on which to base its expectations than any number of analysts. Consequently, the most efficient way to communicate management's information to the market is via guidance. In an ideal world, analysts who choose to listen to these numbers would use this information in combination with their own research to develop earnings forecasts.

The Bad: Management Can Manipulate Expectations
The cynical view is that, because this is not an ideal world, management teams use guidance to sway investors. In bull markets, some companies have given optimistic forecasts when the market wants momentum stocks with fast-growing earnings per share (EPS). In bear markets, companies have tried to lower expectations so that they can "beat the number" during earnings season. It is one of the analyst's jobs to evaluate management expectations and determine if these expectations are too optimistic or too low, which may be an attempt at setting an easier target. Unfortunately, this is something that many analysts forgot to do during the dotcom bubble.

Why Some Companies Stopped Giving Guidance
Claiming that guidance promotes the market's focus on the short term, some companies stopped providing guidance in order to try to combat this obsession with the short term. However, eliminating guidance will not change the market's fixation on the short term, because the market's incentive policies cannot be dictated. Everyone on Wall Street is paid annually and gets paid more if they outperform in that year. This focus will not change if companies don't talk to the Street.

The Ugly: Eliminating Guidance Will Increase Volatility
Eliminating guidance could result in more diverse estimates and missed numbers. Analysts often use guidance as a reference point from which to build their forecasts. Without this anchor, the range of analysts' estimates will be wider, producing larger variances from actual results. Misses of more than a penny may become commonplace.

An interesting question is what will the Street do if misses become bigger and more frequent? Today, if a company misses the consensus estimate by a penny, its stock could suffer or soar, depending on whether the miss was negative or positive. Bigger misses could result in bigger swings in stock prices, producing a more volatile market. On the other hand, if the market is aware that the misses are caused by the lack of guidance, it may become more forgiving. If there is an argument for stopping guidance, it is that the Street would be more forgiving of companies that miss the consensus estimate.

The Bottom Line
Guidance has a role in the market because it provides information that can be used by investors to analyze the company, evaluate the management team and create forecasts. Companies are foolish if they think they can alter the market's short-term focus. The Street will still do what it wants, and it will stay focused on quarterly timelines. If, however, more companies opt for no guidance, the Street inadvertently may become more rational and, therefore, stop whipsawing stock prices for miniscule variances that are really just SWAGs (Systematic, but We're All Guessing).

Print

How Much Should You Have In Your 401(k) To Retire?
Consequences Of Maxing Out Your Credit Card
Use Caution Trading Pink Sheet Stocks
New Tax Rules Target The Top Tax Bracket
Top 4 Most Competitive Financial Careers
The Best Entry-Level Finance Jobs For 2013
5 Ways To Increase Your Chances Of Getting A Job After College
Is Higher Education Still A Good Investment?
Why You Shouldn't Worry Too Much About New Student Loan Rates
How To Make $1 Million In Finance
Why Clients Fire Financial Advisors
Share 0 Disqus 6 Tough Questions To Ask Before Retirement
Retail Banking Vs. Corporate Banking
How To Be A Top Financial Advisor
The Basics Of A 401(k) Retirement Plan
How To Write An Effective Investment Banking Resume
The Benefits Of An Accelerated Bachelor's/Master's Degree
How Long Will You Work When You Should Be Retired?
The Importance Of Work Experience For Students
8 Clear-Cut Ways To Becoming A Better Saver
The Pros And Cons Of Pension Maximization
Top Business And Finance Degrees For 2013
Will 2014 Mark The Return Of The CD?
How Summer Businesses Survive
Social Finance Careers: Creating A Better World
How To Match Your Savings Goal With Investments
Investment Tax Basics For All Investors
Should You Borrow Money To Make Investments?
Menu
5 Secrets Credit Card Companies Don’t Want You To Know
What Determines Your Cost Basis?
Should You Buy An Annuity?
When To Buy A Mutual Fund
How Financial Advisors Are Leveraging Social Media
Maintaining Work/Life Balance For Financial Professionals
5 Financial Gifts Dad Really Wants
The Father's Day Index 2013: Dad’s Value Is Up!
Networking For Financial Professionals: Maintaining A Strong Industry Presence
4 Reasons Why Your Credit Card Company Thinks Your Card Is Stolen
Can Financial Education Rebuild America’s Economy?
4 Ways To Take Your Career To The Next Level
The Hidden Fees In 401(k)s
Is It Foolish To Strive For The American Dream?
5 Easy Fixes For A High Summer Electric Bill
Commuters' University: On-The-Road Learning
What Is The Federal Employees Retirement System (FERS) And How Does It Work?
Summer Money-Making Opportunities For Finance Students
Unexpected Challenges For Self-Employed Finance Professionals
3 Financial Tasks We Think Are Harder Than They Really Are
How To Survive When Prices Double Every Day And A Half
5 Budget Tips For Your European Backpacking Trip
The Financial Fallout Of The DOMA Repeal For Same-Sex Couples
5 Overused Resume Phrases